Suppose inflation is expected to be 5 percent next year, and you and your employer agree to a 6 percent increase in your nominal, or monetary, wage. If inflation turns out to be 7%, what is your real wage increase?
A) 1 percent
B) -1 percent
C) 0 percent
D) -5 percent
E) 6 percent

Question

Quizplus · Accepted Answer

Inflation had a greater-than-expected increase of 2%, which erodes the real value of your wage increase. This means that your real wage increase is actually less than the agreed-upon nominal wage increase of 6%, resulting in a decrease of 1% in your purchasing power. Therefore, the correct answer is (B) -1 percent.

Suppose Inflation Is Expected to Be 5 Percent Next Year